How Divorce Affects Taxes

Have you wondered how divorce affects taxes? Perhaps you are in the midst of a separation, or you are recently divorced. Going through a divorce is hard enough. Thinking about taxes at the same time might just be borderline torture. To help lighten the burden, even just a little bit, here are the most important things you need to know when it comes to taxes amidst divorce, particularly for the first year after.

Keep reading as your Practical Taxes, your tax preparation specialists in Billings, Montana explain what you need to know.

Divorce Affects Your Filing Status

As long as your divorce decree has not been finalized yet, your filing status remains a choice between married filing jointly, or married filing separately. Once finalized, you lose the joint return option and your choices revert to single, or head of household (if you and your spouse lived separately for at least the last half of the year, you had a child (or children) living with you for more than 6 months during the year, and you paid for more than 50% of the cost of maintaining your home to care for your child (or children).

Your Exemptions for Dependants May Change

Only one parent can claim a child as a dependent. To be able to claim your child, you must be what is referred to as the custodial parent. This means your child should have lived with you for more than 6 months out of the year (longer than he/she did with your ex-spouse). As a non-custodial parent, it will only be possible to claim dependent exemptions if the custodial parent agrees not to claim the exemption by signing a formal waiver or written declaration (IRS Form 8332).

Simultaneous with the dependency exemption, the spouse who claims it is also entitled to claim the Child Tax Credit (up to $1000 per child under 17 years of age), as well as one of the higher education credits — either the American Opportunity Tax Credit (up to $2500) or the Lifetime Learning Credit (up to $2000).

Alimony and Child Support Payments

If you’re the one who’s paying alimony, you will be entitled to tax deduction for the payments, provided you pay the alimony in cash, and the conditions of the alimony are explicitly expressed in the divorce settlement/agreement. On the other hand, the recipient of the alimony will have to pay income tax for the amount received.

Conversely, payments for child support are not deductible, and child support payments received are not taxable. The IRS recognizes that supporting one’s child is a parent’s obligation, so child support payments are deemed tax-neutral.

When it comes to medical expenses, even if you are not the custodial parent, you can claim these as deductions if you have been continuing to pay your child’s medical bills even after the divorce.

Expect a Transfer of Assets

When property is transferred to one spouse, the recipient does not need to pay tax for that. It is only when he/she decides to sell it that capital tax gains will be charged. The bad news? The tax will cover the cumulative value from before the transfer was made up to the present. To illustrate, if the husband transfers real property to his wife, no tax will be charged yet. When the wife sells the property later on, she will be charged with capital gains tax on the appreciated value from the time the property was still a joint ownership, up to the present time when the property is being sold to a third party.

For retirement savings, it is advisable to do the transfer under a QDRO (Qualified Domestic Relations Order). This will give the recipient access to the funds, and will relieve you of the burden of paying the tax.

Practical Taxes Knows How Divorce Affects Taxes

The good news is that you don’t have to worry about your taxes. Just bring in the appropriate paperwork (most will automatically be sent to you shortly after the new year begins), and we will take care of the rest. Our highly trained accountants understand how divorce affects taxes so that you don’t have to.

Practical Taxes offers affordable tax preparation, and other accounting services, to the Billings, MT community.